Friday 28 July 2017

Daily Market Update: US Federal Reserve keeps interest rates on hold

US Federal Reserve Chair Janet Yellen
US Federal Reserve Chair Janet Yellen

David O'Reilly

The FOMC left policy rates unchanged as expected.

The dot plot was revised down - the median 2016 dot stayed at two hikes but five members moved their dot from two to one hike in 2016 (now total of six at one hike). The path was revised sharply lower, most notably in 2018, where the median dot fell by 2.5 hikes. The forecasts for growth and inflation were little changed. In the press conference, Chair Yellen repeated core points from her June 6th speech. She repeatedly noted uncertainty in the outlook. In May, US job creation fell to its lowest level in more than five years, after faltering in April. Ms Yellen said it was important not to overreact to one or two monthly readings. "That said, we will be watching the job market carefully," she added.

Yellen also said that the possibility of Brexit was one of the factors that led the Fed to keep interest rates on hold. She said, "Clearly this is a very important decision for the United Kingdom and for Europe. It is a decision that could have consequences for economic and financial conditions in global financial markets. If it does so it could have consequences in turn for the US economic outlook that would be a factor in deciding in the appropriate path of policy.”

Also in the US yesterday, the Empire State manufacturing index for June rose to 6 from negative 9 in May. Any positive reading indicates improving conditions. The rebound in June was much better than the forecast for a -4 reading. We also had industrial and manufacturing production figures from the US, headline PPI rose more than expected in May, jumping by 0.4%. Excluding food, energy, and trade services, the "core" PPI was weak in May, falling by 0.1%, following an above trend 0.3% rise in April. On a yoy basis, the headline index was down 0.1% and the core PPI was up 0.8% (both have been around these levels all year). Industrial production fell in May by 0.4%, following the softening seen in some other gauges of factory activity in the month. In May, manufacturing output fell by 0.4%, due largely to a 4.2% drop in motor vehicle production. Excluding autos, factory output was down 0.1%. On a yoy basis, manufacturing output (both overall and ex-autos) remains little changed from a year ago.

In the UK wage inflation pressures remain muted, despite a wave of new annual pay settlements and the national living wage taking effect (the latter amounts to a 7.5% increase on the national minimum wage for those aged 25 and over). Headline average weekly earnings growth was unchanged at 2% 3m yoy in April, below consensus forecasts of 1.7%. Employment rose by 55k in three months to April, close to the consensus forecast at 60k. This was enough to push unemployment down by 20k and lower the unemployment rate to an 11year low of 5%, above consensus at 5.1%.

In the euro zone yesterday the trade balance came in at 27.5bn versus an expected 26bn, while the ECB’s Constancio also spoke, saying that the ECB faces clear limits on the use of sub-zero interest rates but added that inflation could actually surprise on the upside after years of forecast misses.

Overnight the Bank of Japan also left monetary policy unchanged. While acknowledging inflation expectations have weakened, the central bank said that Japan’s economy “is likely to be on a moderate expanding trend.”

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